A $10 billion surprise

Greg BurnsTribune senior correspondent

The historic merger agreement between Chicago's two leading futuresexchanges, the Merc and the Board of Trade, went up for grabs Thursday after asurprise $9.9 billion bid from an out-of-town rival who says the city would bebetter off keeping its crosstown competition alive.

Atlanta-based IntercontinentalExchange Inc. on Thursday proposed combiningwith the Chicago Board of Trade in an all-stock transaction said to provide a10 percent premium over the offer on the table from the Chicago MercantileExchange. Board of Trade shareholders would retain majority control, and themerged company would remain headquartered in Chicago.

IntercontinentalExchange, or ICE, is a far smaller player in the futuresmarket and an upstart--it's about 7 years old. With its last-minute offer,made three weeks before the Board of Trade's scheduled vote to approve theMerc merger, ICE threatens to shake up one of Chicago's most storiedindustries just as it was reinventing itself.

The Merc and Board of Trade want to team up so they can better compete inthe globalized business of trading commodities and financial instrumentselectronically. ICE sees the same opportunities but argues it would make abetter partner.

Ensuring that Chicago retains two competing exchanges "will go a long way"to resolving antitrust concerns that regulators and industry officials haveraised about the Merc's proposed acquisition of its longtime rival, saidJeffrey Sprecher, chairman and chief executive of ICE. "From a regulatorystandpoint, this is a clean deal."

It also would perpetuate a tradition of sometimes bitter divisions betweenthe Merc and the Board of Trade, two local institutions whose leaders havefeuded over matters big and small for generations. The bickering has subsidedin recent years, as both exchanges went public and their market value soared.Even though the Merc would be taking over the Board of Trade, a tough pill forsome old-timers, analysts had expected shareholder approval by a wide marginat a vote scheduled for April 4.

Though CBOT Holdings Inc. said it will proceed with the vote, its plan maychange if a bidding war erupts. Wall Street analysts say the Merc has thefinancial muscle to top the ICE offer. And while the New York Stock Exchangeor others might jump in, "my gut feeling is there will not be another bidder,"said Chris Allen, analyst at Banc of America Securities. "It's going to be atwo-way battle."

The Merc needs the Board of Trade more than ICE does, because anacquisition is "the mainstay of at least their near-term strategy," saidRichard Repetto, a principal at Sandler O'Neill & Partners. "I still think theCME is the front-runner."

Yet ICE laid out a compelling case for the acquisition, said Repetto, whorated the likelihood of the upstart energy exchange completing the deal at 25percent, up from a 5 percent long shot when he first heard of its bid Thursdaymorning.

On Wall Street, investors took the offer seriously. Board of Trade sharesclosed at $194.95, a gain of more than 17 percent, while stock of ICE and theMerc declined. ICE shares closed at $128.10, down about 3 percent; Merc sharesfell 5.5 percent to close at $534.23.

For Board of Trade members who each have retained the 27,338 shares ofstock they received in the exchange's public offering, Thursday's rallyrepresented a $628,000 gain, said Chicago trader Jon Najarian, who through atrust owns seats at the NYSE, CBOT and Chicago Board Options Exchange. "Therewere high-fives all around the trading floor today."

The momentum in favor of the Merc's acquisition has given way touncertainty, added Chris Hehmeyer, chief executive of Chicago trading firmPenson GHCO and a longtime Board of Trade member. "This changes everything. Itthrows everything into question."

The Board of Trade said it would review the bid but declined to comment onit, and executives from both exchanges mostly dodged questions here at thefutures industry's annual conference in Florida.

At a Board of Trade press conference scheduled weeks ago for Thursdaymorning, scrambled eggs and bacon were delivered to an empty table as exchangebrass, stunned by the unexpected bid, huddled in seclusion. One CBOT executiveheard about the proposal at 7 a.m. when ICE slipped a letter under hishotel-room door.

A Merc executive speaking on a panel with ICE boss Sprecher deflectedquestions about the deal, drawing a laugh from a crowd of industry insiderswhen he said his exchange would respond by no longer serving ice in its drinksat the events it sponsors here.

Under the proposed transaction, ICE would issue 1.42 of its shares for eachCBOT Class A common share, valued at $187.34 per Board of Trade share as ofWednesday. That represented a 12.8 percent premium to CBOT's closing shareprice Wednesday. It also represented a 39.3 percent premium to its share priceon Oct. 16, the day before its merger agreement with the Merc, ICE said. Thebid topped a Merc offer valued at $8.96 billion, or $169.53 per share.

The steep valuations drew skepticism from some futures experts. "It's alittle like we saw in 2000 with the Internet bubble," said Patrice Blanc,chairman and chief executive of Fimat International Bank, a big player in thefutures markets. "On the pure business side, is it making sense? I don'tknow."

CBOT shareholders would own 51.5 percent of the combined company, and ICEsaid it would commit to the same terms as the Merc regarding preservation ofChicago's traditional open outcry trading floors.

In a conference call with investors Thursday morning, Sprecher said hisplan would help preserve the Board of Trade's "heritage" for Chicago. Becausethe ICE deal does not involve a change in control, it also may improve thechances of Board of Trade members retaining their rights to trade at theChicago Board Options Exchange, Sprecher added.

The CBOE has said those rights would be eliminated under the proposed Mercdeal.

Sprecher moved from the power plant business to trading in 2000 and builtICE into a force quickly. It owns London's International Petroleum Exchangeand operates an electronic energy marketplace, franchises that could helpboost the Board of Trade's efforts to develop a contract on ethanol, thecorn-based fuel, said Board of Trade member Hehmeyer said.

Sprecher agreed that "energy and ags are a very good fit together. Theycater to the same customer."

Yet others say the Merc and Board of Trade make a neater fit. "There ismore logic between the CBOT and CME," said Blanc. Those similarities raisedantitrust concerns, given the 85 percent or higher U.S. market share that thecombined futures market would control. Cost savings would play a big role ineither deal.

ICE said that in addition to cost cuts and the revenue opportunitiesavailable to the combined company, it would provide a comprehensive system formatching and guaranteeing trades. The Board of Trade's deal with the Merc forthose so-called clearing services is set to end in January 2009.

On Jan. 12, ICE acquired the New York Board of Trade, a small exchangetrading coffee, cocoa and other commodities, obtaining its clearing system inthe process. Sprecher said his board gave him the go-ahead to make a Board ofTrade bid because that transaction went so smoothly, and antitrust scrutiny ofthe Merc's bid was intensifying.

"We don't have overlapping products. We have a relationship with theDepartment of Justice," Sprecher said. "We're definitely the higher bidder.Anyone can counter with a higher price for a deal they can't get done."